FX Quant Strategy provides a quantitative overview of the currency market, including several valuation tools and monitors, focusing on the FX options market.
This week we recommend one FX option trade:
- Bearish 6M EUR/NOK risk reversal
According to our spot monitor, NOK currently stands out as looking significantly undervalued against EUR and SEK. EUR/NOK appears the most stretched with EUR/NOK trading 2.1 standard deviations above our short-term financial model's fair value estimate of 9.2382 (spot ref.: 9.501). Fundamentally, we remain of the view that NOK is cheap and although we acknowledge that there is a risk that Norges Bank in contrast to our forecast could cut interest rates further, we think that market's pricing is already quite negative. We forecast EUR/NOK at 9.40 on 1M and 3M, 9.25 on 6M and 8.80 on 12M. Hence, we think that the combination of a stretched spot signal, positive carry and not least the significant option skew offers an attractive opportunity for medium- and long-term investors to build up short EUR/NOK positions, and we recommend to enter 6M bearish EUR/NOK risk reversal.
Implied volatility in general trades in neutral territory across the FX universe and across maturities, with the only two exceptions being the 12M NOK/SEK and 12M AUD/NZD, which are expensive according to our volatility valuation model. Shorter-dated options are in general borderline cheap up to the 1M tenor - with the Scandi crosses looking cheapest at present - while volatilities at the 3M tenors and beyond generally are more expensive from a valuation point of view.
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